Health Reform

What’s up with the ACA’s Medical Loss Ratio rules?

One lesser known provision of the Affordable Care Act is that it regulates insurers medical loss ratios (MLRs).  What are MLRs?  Does this matter?  A research paper by Karaca-Mandic, Abraham and Simon (2013) examines the question.  They explain the ACA’s MLR requirement as follows.

One provision that has gained considerable attention is the establishment of federal minimum medical loss ratios (MLRs) for firms that sell health insurance. An MLR represents the proportion of a health insurer’s premium revenue that is paid out for clinical services, captured primarily by medical claims…Effective January 1, 2011, insurers must meet a minimum MLR of 80% in the individual market.

In essence, Congress is regulating insurance company profits.  One justification for this is that in many markets, insurance companies may have significant market power to increase premiums, in part due to industry consolidation.

In fact, the authors do find some evidence of market power.  Using data from the NAIC Health InfoPro database for years 2001 to 2009, the find that:

[W] hen insurers are the only credible insurer…in their market, they have lower MLRs…characteristics, such as presence in the group market, business tenure, and HMO status, are positively associated with MLRs.

Could it be the case that insurers with market power have more administrative expenses?  The answer is no.  The authors find that insurer market concentration does not affect the share of premiums used for administrative expenses.

Thus, is MLR are good way to reduce premiums?   In my opinion, the answer is no.  First, insurers will have some leeway regarding whether expenses count as administrative expense.  For instance, do investments in health IT count as medical or administrative expenses?  Additionally, some administrative expense can lower premiums.  For instance, increases administrative expenses used to detect fraud would decrease MLR, but potentially improve oversight.  Further, if MLRs are capped at 80%, insurers have one clear way to increase their profits: increase premiums.  If an insurance plan charges $10,000, then they must provide $8,000 of services and their maximum profit is $2,000.  If they charge $20,000,  they can increase their maximum profit by charging $20,000, providing $16,000 of services and having a maximum of $4,000 of profits.  One way to increase premiums is to not negotiate as hard on provider reimbursement.  Thus, capping MLR may actually increase premiums.



  1. You’re leaving out one important item, competition. If an insurer increases premiums to increase profits, as you suggest they may, they run the risk of losing customers to another insurer that has not raised premiums. This would be particularly true in the case where there is a not-for-profit insurer in the market that is not motivated to increase premiums.

  2. @Spencer “Not for profit” insurance companies are probably run similarly to “not for profit” organizations–they still make a profit…it just depends where the money really goes.

    In response to the article, it’s pretty interesting that there are correlations like this with the MLR. I mean, when you break it down this way it almost seems obvious what’s going to happen–they’ll raise premiums.

    Back @Spencer, I think that there will be competition, and this is what AFA might be trying to do with this approach to MLR management.

    Hopefully, in the end, it will result in less of a greedy mentality for the insurers and a more competitive industry. Sort of how they keep trying to reduce the monopolies in the telecom industry. Fiscally speaking only, of course.

    Great article!

  3. I have tried reading through the AFA documentation and I was actually curious about these MLRs; ergo, I ended up here on your blog! When it comes to increasing the profits in another way besides increasing premiums, couldn’t you give credits to customers (out of the 80%) and then have them “exchange” those x number of credits for extended service options or kickbacks in another form? I’m not sure what they plan on doing to keep business competitive, while driving profit, while holding a low enough premium to please people AND investors. Awesome information here!

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